Sunday, July 02, 2017
When the cap doesn't fit, worry about the deficit
Posted by David Smith at 09:00 AM
Category: David Smith's other articles


My regular column is available to subscribers on This is an excerpt.

What do you need for a successful policy of deficit reduction, of eliminating the government’s annual borrowing and beginning the process of reducing public sector debt?

Well, you certainly need a strong government which is willing and able to take unpopular decisions. You also need a belief in the policy across government. And you need political leaders looking to the long-term.

You do not have to be Sherlock Holmes to spot that, as a result of Theresa May’s election cock-up, all those ingredients are now missing. The signs of slippage are there to see. Austerity fatigue has set in, and not just among some voters. Many ministers are also baulking at the last push to eliminate a budget deficit officially projected to be £58bn this year, even a last push that was intended to take all of eight years.

A further rise in public sector net debt, currently £1.74 trillion or 86.5% of gross domestic product, is inevitable, and the weaker the economy the more it will go up.

What are the signs of slippage? The first was the cost of the prime minister’s agreement with the Democratic Unionist Party (DUP), a £1bn “bung” which old Treasury hands say will merely be a downpayment, and will lead to increased demand for extra spending from other parts of the UK. That election gets more expensive by the day.

Then there were the hints from Downing Street of a softer approach to public sector pay, as foreshadowed here a couple of weeks ago, followed by an insistence that it remains in place. The 1% pay cap may not survive the autumn, many Tories having decided that it cost them a lot of votes in the election.

Public sector pay has been falling in real terms since the cap was introduced, as a useful analysis by the Resolution Foundation pointed out. But then private sector pay has also been falling in real terms too.

It remains the case, moreover, that public sector pay levels exceed those on average in the private sector, either in absolute terms or, when adjusted for the different mix of skills and qualifications in the public sector. To head off responses from readers, I should also point out that most public sector workers enjoy more generous pensions.

Exhibit three in the evidence for slippage came with the British Social Attitudes survey, which showed what its compilers described as a “leftwards tilt on tax and spend”. People say they are willing to pay more tax to fund better public services.

So what should we make of all this? Philip Hammond is fighting to preserve the government’s fiscal credibility, though even he has admitted that the election sent a message about austerity. He is also fighting on several fronts, and doing battle with some of the government’s nuttier Brexiteers on the terms of Britain’s exit from the EU. Treasury officials are left with the task of insisting that “nothing has changed” when it comes to deficit reduction.

I fear that something has. This is not to say the May government is suddenly going to embark on a spending spree. Austerity, as defined by big real-terms benefit cuts, the continued squeeze on departmental and local authority budgets, will continue.

But there will be drift. Money will be found when the government’s survival requires it. Unpopular policies will be junked. Some already have been. Thanks to the DUP deal and the government’s weak position, the triple lock on pensions remains in place. A promise to bring forward radical proposals on social care is one that we will believe when we see it. The government’s weakness will mean weaker public finances.

There are a couple of things I would say about this. One is that, if the government is expecting any political dividends from this, beyond survival, it will not get them. The DUP deal has given public spending a bad name and, when it comes to public attitudes to politicians and their parties, leopards do not change their spots.

George Osborne did not become a hero of the working-classes when he introduced the national living wage, and the prime minister cannot expect to overcome the hostility of public sector workers when a relaxation of public sector pay policy happens. Some things are deeply ingrained and they will be not flocking to the Tories. One prominent Tory MP said to me after the election that there should be a purdah period for public sector workers, so fed up was he of the tide of anti-government propaganda, some of it sent by teachers to parents on school notepaper.

If there is a case for a relaxation of public sector pay, it should be in response to recruitment and other practical difficulties, not because of the hope that it will buy popularity and votes. It will not.

The other point is that we should be very sceptical of survey results which suggest that people are prepared to pay more tax for better public services. That was the standard result during the Thatcher years, during which people were happy to deliver large majorities to a party robustly promising and delivering exactly the opposite.

Nor was this the message of the recent election. The one party promising an across-the-board tax hike to fund extra public spending, the Liberal Democrats, did not do well. Labour’s pitch was that it could end austerity in a way that, for the vast majority of people, would not mean higher taxes. Perhaps surprisingly, many people believed it. When somebody else is making the sacrifice, it is easy to vote for more government largesse.

How worried should we be about the slippage in the public finances that we will see as the government tries to cling to power? Thanks to the progress of recent years, we have a budget deficit of 2.4% of GDP, the same as in the last pre-crisis year of 2006-7 and sharply down from 9.9% of GDP in 2009-10. In this respect, austerity certainly worked.

But 2.4% of GDP should be an upper limit for public sector borrowing, not a base for pushing it higher. The Treasury will have its work cut out limiting the damage.